The Deflation Monster Has Arrived

 

 

As we’ve been warning for quite a while (too long for my taste): the world’s grand experiment with debt has come to an end. And it’s now unraveling.

Just in the two weeks since the start of 2016, the US equity markets are down almost 10%. Their worst start to the year in history. Many other markets across the world are suffering worse.

If you watched stock prices today, you likely had flashbacks to the financial crisis of 2008. At one point the Dow was down over 500 points, the S&P cracked below key support at 1,900, and the price of oil dropped below $30/barrel. Scared investors are wondering:  What the heck is happening? Many are also fearfully asking: Are we re-entering another crisis?

Sadly, we think so. While there may be a market rescue that provide some relief in the near term, looking at the next few years, we will experience this as a time of unprecedented financial market turmoil, political upheaval and social unrest. The losses will be staggering. Markets are going to crash, wealth will be transferred from the unwary to the well-connected, and life for most people will get harder as measured against the recent past.

It’s nothing personal; it’s just math. This is simply the way things go when a prolonged series of very bad decisions have been made. Not by you or me, mind you. Most of the bad decisions that will haunt our future were made by the Federal Reserve in its ridiculous attempts to sustain the unsustainable.

The Cost Of Bad Decisions

Yes, it’s easy to pick on the Fed now that it’s obvious that they’ve failed to bring prosperity to anyone but their inside coterie of rich friends and big client banks. But I’ve been pointing out the Fed’s grotesque failures for a very long time. Again, too long for my tastes.

Note the pattern in the above monthly chart of the S&P 500. A relatively minor market slump in 1994 was treated by the then Greenspan Fed with an astonishing burst of new money creation — via its ‘sweeps” program response, which effectively eliminated reserve requirements for banks. That misguided policy created the first so-called Tech Bubble, which burst in 2000.

The next move by the Fed was to drop rates to 1%, which gave us the Housing Bubble. That was a much worse and more destructive event than the bubble that preceded it. And it burst in 2008.

Then the Fed (under Bernanke this time) dropped rates to 0%. The rest of the world’s central banks followed in lockstep (some going even further, into negative territory, as in Europe’s case). This has led to a gigantic, interconnected set of bubbles across equities, bonds and real estate — virtually everywhere across the globe.

So the Fed’s pattern here was: fixing a small problem with a bad decision, which lead to an even larger problem addressed by an even worse decision, resulting in an even larger set of problems that are now in the process of deflating/bursting.  Three sets of increasingly bad decisions in a row.

The amplitude and frequency of the bubbles and crashes are both increasing. As is the size and scope of the destruction.

The Even Larger Backdrop

As long as everybody played along, this game of borrowing and then borrowing some more was fun. In one of the greatest circular backrubs of all time, the central banks and banking systems of the developed world all bought each other’s debt, pretending as if it all made sense somehow:

The above charts show how hopelessly entangled the worldwide web of debt has become. Yes, it’s all made possible by the delusion that somehow being owed money by an insolvent entity will endlessly prevent your own insolvency from being revealed. How much longer can that delusion last?

All of this is really just the terminal sign of a major credit bubble — a credit era, if you will — drawing to a close.

Why The Next Crisis Will Be Worse Than 2008

I’m not just calling for another run of the mill bear market for equities, but for the unwinding of the largest and most ill-conceived credit bubble in all of history. Equities are a side story to a larger one.

It’s global and it’s huge. This deflationary monster has no equal in all of history, so there’s not a lot of history to guide us here.

Full article: The Deflation Monster Has Arrived (Peak Prosperity)

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